Tag: commercial real estate

To understand office vacancy rates in Northern Virginia, Art Greenberg, the Washington, D.C.-based vice chairman for tenant advisory firm Savills Inc., employs the turkey sandwich test.

In short, he explains, today’s workers want an office building where they can walk a block or two and find a half-dozen places to get a turkey sandwich for lunch. Maybe several are fast casual joints, and maybe one or two are mid-level restaurants or even a higher-end spot.

In areas where workers can find that, Greenberg expects low office vacancy rates. But in suburban office parks, far from Metro trains or walkable areas, he expects more vacancies.

Office vacancy rates in Northern Virginia remain at record high levels, according to analysis from commercial real estate firms JLL and CBRE. As of June, roughly 24% of the region’s estimated 150 million square feet of office space was vacant. That’s about a half a percentage point higher than in March and about 4 percentage points higher than the beginning of 2020.

These higher vacancy rates have created a cascading concern for municipalities such as Fairfax County, Arlington County and Alexandria, where local leaders are weary of declining value for local office buildings and shrinking local tax revenues.

In turn, the vacancies have forced leaders in Northern Virginia cities and counties to push for a series of changes, ranging from fast-tracking zoning changes to requesting state aid to redevelop critical urban corridors to reconsidering novel uses for traditional buildings.

All the while, office construction has slowed and is expected to result in about one-third of the new square footage added in 2022. Banking and real estate officials are still worried about high interest rates that can squeeze building owners. There’s also a lack of clarity about office space needs amid a post-pandemic remote and hybrid work environment.

But generally, they say, the region is faring about as expected.

“This shoe that was supposed to drop any time within the last 12 or 24 months doesn’t appear to have dropped in as adverse or negative of fashion as a lot of people expected it would with respect to commercial real estate,” says Bruce Whitehurst, president of the Virginia Bankers Association. “Within the regulated commercial banking industry, losses on commercial real estate loans just haven’t materialized in the way that I think a lot of people expected two or three years ago.”

Instead, analysts say, a careful parsing of the numbers reveal two markets for office space in Northern Virginia.

The first, reaching from Dulles International Airport and following to Reston through Tysons, then Rosslyn and on to National Landing, is home to a stretch of trophy Class A office space where vacancies are tight. Those offices are newer, with more amenities (think phone booths and rooftop decks) and more places for employees to socialize at lunch or after work. Office vacancy rates at Reston Town Center are at about 4% to 6%, according to reports from JLL and BXP. It is part of a stretch, to Greenberg’s point, where turkey sandwiches may be found in abundance.

The second market contains much of the rest of the region. About 80% of the vacancies in the region come from older buildings and Class B or Class C office space. Many of those were built in the 1980s and 1990s and lack amenities such as modern IT infrastructure. Some will be redeveloped, and some will simply need to be torn down.

“We have, frankly, [office] product that has become obsolete and that we need to redevelop, reposition or divert, to do something different with,” says Ryan Touhill, Arlington’s economic development director.

The question then becomes what something different looks like.

A new lease on life

Real estate analysts and local economic development officials describe a demand for modern buildings and neighborhoods that are higher on environmental and walkability scores, those with natural light, more breakout rooms for collaboration and more private booths to take a phone call. They also boast infrastructure like whiteboards and videoconferencing technology. They tout rooftop decks with generous seating and updated, modern gyms, not an old closet with a few free weights.

“Trophy office buildings that are highly amenitized, that have great workspaces [and] that are in larger neighborhoods, continue to perform well, while older office buildings that have not been updated for some time or which may have outdated amenities … are struggling … to retain and attract tenants,” Touhill says.

According to JLL, vacancy rates for trophy office space a decade ago topped 35%. Today, it’s about 12.7%, while the remainder of the market is at about 23.7%.

But what the future holds for older buildings is that they may need a new lease on life.

For roughly two years, Arlington County has been working to make it easier to redevelop, reposition or divert properties by removing regulatory barriers and constraints.

When building owners want to invest in a project, they often ask two questions: How long is local government approval for this going to take? And how much is this going to cost?

“Right now, we’re trying to get more competitive on those two things,” Touhill says.

By the end of 2024, Touhill says, the county hopes to have completed a revamping of local ordinances that would provide developers with a streamlined checklist process for gaining approvals to revamp office buildings.

Economic development officials and industry experts point to a host of possible ways abandoned office buildings could be converted into other uses. One possibility, says Michael Hartnett, JLL’s Washington, D.C.-based senior director of mid-Atlantic research, could be data centers. Another could be multifamily residential or townhomes.

One of the oft-cited examples of the latter is the former three-building Park Center office complex in Alexandria. Previously, a combined 568,000 square feet, the site was converted into a 435-unit apartment community with 115,000 square feet of office space along the Interstate 395 corridor in 2022. The project was part of a joint venture between USAA Real Estate and Lowe that turned Class B office space once used by the U.S. Department of Agriculture into living units with dens and walk-in closets.

Alexandria allows developers to convert office buildings to residential “by right,” especially if they increase a neighborhood’s population density. The Foundry, a former federal office building and home to Department of Defense workers, was redeveloped in 2020 by Perseus Realty, ELV Associates and Four Points into a 16-story apartment building.

But the difficulty with such swaps, analysts say, is that such buildings often require a significant reworking of mechanical systems. For example, think about the difference between bathroom plumbing alone or the location of windows.

Another possibility could be hotels. Alexandria economic development officials point to the Heron Hotel, which opened in June on Prince Street in historic Old Town. Formerly known as the George Mason hotel, it operated as an inn from 1929 to 1971. Then it became office space, housing the headquarters of the National Center for Missing and Exploited Children until 2018. Interior demolition to transform the building back into a hotel started in 2019, but when the pandemic hit in March 2020 and tourism plunged, financing fell through.

Alexandria economic development officials were able to help the developers — a partnership between Aparium Hotel Group, May Reigler Properties, and Potomac Investment Properties – with an application for Virginia’s Tourism Development Financing Program, which provided roughly $6.2 million in gap funding in January 2022. Through that program, the developer issued bonds that will then be repaid by the developer and future sales tax revenue generated at the hotel.

But not every building will find a new purpose.

JLL’s Hartnett points to 10.1 million square feet of office space throughout Northern Virginia that is waiting to be torn down before the property can be put to a new use.

“It’s not like they can sort of reskin the building and convert it overnight from an office building to an apartment building,” he says. “They really do have to tear it down. But what we’re finding is that there’s a huge appetite out there to … rightsize the market. … Whether it’s outside the Beltway in your Dulles Airport or inside the Beltway all the way to Rosslyn, just across the bridge for D.C., you’re seeing appetite from landlords to convert … and bring more residential, bring more foot traffic into the market.”

Federal foundation

Despite the record-high office vacancies, industry analysts and local officials note that the Northern Virginia market is insulated by space leased by the region’s numerous federal agencies and contractors. The Rosslyn area of Arlington, near the Pentagon, for example, has the highest gross asking rent for the region, $47.28 per square foot, according to the CBRE report. The region average is about $37.59 per square foot.

That report also notes that much of the leasing activity in the area during the spring came from government agencies, federal contractors and major companies in the region. For example, defense contractor Northrop Grumman Mission Systems renewed its lease for a 300,000-square-foot office near Fairfax Center. Meanwhile, global construction and engineering firm Bechtel is leasing a nearly 300,000-square-foot office in Reston. Additionally, the federal Cybersecurity and Infrastructure Security Agency extended its lease in an 88,000-square-foot building in Arlington’s Ballston area.

And while new office construction remains at low levels, some businesses are making significant investments in urban areas ranging from Dulles to National Landing.

CoStar Group, the global real estate data company behind Homes.com and Apartments.com, paid $339 million for a new headquarters tower in Arlington earlier this year. And Bethesda, Maryland-based JBG Smith is making massive investments into office towers in the National Landing neighborhood being developed around Amazon.com’s East Coast headquarters, HQ2.

While federal government spending can provide a foundation for the region, Touhill says his county department is also targeting dual-use companies that serve both the public and private section, as well as tech startups and aerospace and cyber companies.

Reflecting the county’s efforts to diversify its economy, he says, his office is planning for “future growth that isn’t so heavily dependent on what is the DOD budget this year.”

Such a shift means a greater focus on international business development, attracting companies from overseas and targeting industries such as defense, aerospace, technology, cyber and fintech, he says.

Relying less on federal spending may also make sense because the government has also not been immune to trends in remote and hybrid work and has been reducing its footprint nationwide. That’s reflected by moves such as the U.S. Patent and Trademark Office shrinking its footprint in Alexandria’s Carlyle area by roughly 800,000 square feet, from 2.4 million square feet to 1.6 million.

The path forward

Marian Marquez, senior vice president for the Alexandria Economic Development Partnership, says the partnership is working to “catalyze” neighborhoods throughout the city, including Potomac Yard and the former Potomac River Generating Site in the Old Town North neighborhood.

The question economic development leaders ask themselves, she says, is, “Who are these other users of space that are going to drop people into the neighborhood and what does that look like?”

The answers could include an entertainment venue that generates tax revenue through admission and events.

As for bankers, Whitehurst says, they need to continue to rely on the myriad data that is now available to ensure a loan is best positioned to perform and be repaid.

And, Greenberg says, city and county leaders should think about what they can do to make for smoother, more streamlined transitions of empty buildings. “I think all of the municipalities could reexamine and say, ‘What can we do to be more flexible?’” he says.

But he also mentions another factor for regional leaders to consider: A longer-than-expected commute will disincentivize workers from coming to the office no matter the amenities. In that regard, perhaps the best improvement for office space, he suggested, would be state and local investment in transportation infrastructure to lessen congestion.

Touhill suggests a state program could be developed to help large cities provide some funding to redevelop and reposition underperforming sites with the goal of creating mixed-use developments and at the same time helping to solve the housing supply issue. But in the near term, he wants to continue to tweak the formula.

“What I would consider success is changing that denominator in the vacancy equation to taking some of those older buildings offline … [and paving] the way for new investment and new development or redevelopment,” he says. “I think that’s really what I would consider successful in the next 12 to 18 months, and I think we’re on the path to do so.”  

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Northern Virginia at a glance

The commonwealth’s economic engine, the Northern Virginia region — including Arlington, Fairfax, Loudoun, Stafford, Spotsylvania and Prince William counties, as well as the cities of Fairfax, Fredericksburg and Alexandria — is home to many federal contractors and government workers due to the region’s proximity to Washington, D.C. Higher education institutions in NoVa include George Mason University, the University of Mary Washington
and Northern Virginia Community College.

Population

2.8 million

Major employers

•  Amazon.com  •  Booz Allen Hamilton
•  Capital One Financial  •  Freddie Mac
•  General Dynamics  •  Inova Health System

•  Northrop Grumman  •  RTX

Fortune 500 companies

AES (Arlington)

Beacon Roofing Supply (Herndon)

Boeing (Arlington)

Booz Allen Hamilton (McLean)

Capital One Financial (McLean)

DXC Technology (Ashburn)

Freddie Mac (McLean)

General Dynamics (Reston)

Hilton (McLean)

Leidos (Reston)

Northrop Grumman (Falls Church)

NVR (Reston)

RTX (Arlington)

Science Applications International Corp. (Reston)

Major attractions

Northern Virginia boasts a series of historical and cultural attractions including Mount Vernon, George Washington’s Potomac River estate, Arlington National Cemetery and the Udvar-Hazy Center, the Smithsonian National Air and Space Museum’s annex, where visitors can see the retired Space Shuttle Discovery. Outdoor lovers will find ample parks and trails, including Great Falls Park and Wolf Trap National Park in Vienna, which includes an outdoor amphitheater that attracts national performers. Shoppers love Tysons Corner Center mall, which got a recent shoutout from Foo Fighters’ Dave Grohl, who grew up in Springfield, and Old Town Alexandria, which has cobblestone streets and boutique shops.

Boutique luxury hotels

The Blackburn Inn and Conference Center (Staunton)

The Mimslyn Inn (Luray)

The Georges (Lexington)

Watermark Hotel (Fairfax County)

Top convention hotels

Westfields Marriott Washington Dulles
(Chantilly)
59,538 square feet of event space, 336 rooms

Hyatt Regency Crystal City (Arlington)
53,000 square feet of meeting space, 685 guest rooms

Crystal Gateway Marriott (Arlington)
39,963 square feet of meeting space,
703 guest rooms

Hilton Alexandria Mark Center
(Alexandria)
37,091 square feet of event space, 319 rooms

DoubleTree by Hilton Hotel
Washington D.C. – Crystal City (Arlington)
33,584 square feet of meeting space, 627 guest rooms

Notable restaurants

Virtue Feed and Grain (Alexandria)
Farm-to-table American,
virtuefeedgrain.com

Field and Main (Marshall)
Southern, fieldandmainrestaurant.com

Ellie Bird (Falls Church)
Contemporary casual, elliebirdva.com

Mama Chang (Fairfax)
Chinese, mamachangva.com

Nostos (Vienna)
Greek, nostosrestaurant.com

Ruthie’s All Day (Arlington)
Mid-century modern, ruthiesallday.com

The Salt Line (Arlington)
Seafood, thesaltline.com